Base Erosion and Profit Shifting

Definition

Base erosion and profit shifting (BEPS) refers to tax avoidance strategies used by multinational companies to shift profits from high-tax jurisdictions to low-tax jurisdictions, thereby reducing their overall tax liability. This practice undermines the tax base of higher-tax countries and creates an imbalance in the global tax system, leading to competition among countries to lower their tax rates to attract foreign investment.

5 Must Know Facts For Your Next Test

1. BEPS strategies often involve exploiting gaps in international tax rules, leading to challenges in tax compliance and enforcement for governments.
2. The OECD has been actively working on addressing BEPS issues through the development of action plans aimed at enhancing transparency and fairness in international taxation.
3. Countries may engage in tax competition by lowering corporate tax rates in response to BEPS, which can lead to a race to the bottom that diminishes public revenue.
4. Digital economies are particularly susceptible to BEPS as traditional tax rules struggle to keep pace with the new ways companies generate revenue online.
5. The impact of BEPS is significant on developing countries, as they may have fewer resources and legal frameworks to combat aggressive tax planning by multinationals.

Review Questions

• How do base erosion and profit shifting strategies affect the tax revenues of high-tax jurisdictions?
  • Base erosion and profit shifting strategies directly reduce the tax revenues of high-tax jurisdictions by allowing multinational corporations to shift profits to lower-tax regions. This practice diminishes the taxable income that these governments can collect, making it harder for them to fund public services. As a result, these jurisdictions face fiscal pressures that may lead them to either increase taxes on domestic businesses or cut essential services.
• Evaluate the role of international organizations like the OECD in addressing base erosion and profit shifting issues among member countries.
  • International organizations such as the OECD play a crucial role in tackling base erosion and profit shifting by developing comprehensive action plans that provide guidelines for member countries. These guidelines focus on improving transparency, ensuring that profits are taxed where economic activities occur, and preventing harmful tax practices. The collaborative approach helps create a more coherent global tax framework that reduces the incentives for companies to engage in aggressive tax avoidance tactics.
• Discuss how base erosion and profit shifting could influence global economic inequality and what steps might be taken to mitigate its effects.
  • Base erosion and profit shifting exacerbates global economic inequality by allowing large multinationals to avoid taxes, disproportionately impacting lower-income countries that rely heavily on corporate taxes for their revenue. This practice undermines their ability to invest in infrastructure, education, and healthcare. To mitigate these effects, countries could adopt stricter regulations on transfer pricing, increase cooperation on information sharing regarding corporate profits, and support initiatives for a global minimum corporate tax rate to ensure a fairer distribution of tax revenues.

Related terms

Transfer Pricing: The pricing of goods, services, and intangibles between related entities within a multinational corporation, which can be manipulated to shift profits across borders.

Tax Havens: Countries or jurisdictions with low or zero tax rates that attract foreign businesses and individuals seeking to minimize their tax liabilities.

Double Taxation: The taxation of the same income or financial transaction in more than one jurisdiction, which can discourage cross-border investment and trade.